Communications of the ACM
Technology strategy and management
Free Trade in a Digital World
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A specter is haunting the globe—a specter of neo-nationalism and protectionism. But not all the global powers are united in an alliance to exorcise this specter, because its lead conjuror is the U.S.—the largest economy in the world. U.S. protectionism was presaged by an ironic juxtaposition at the World Economic Forum in January 2017, when China's President Xi Jinping championed the cause of a liberal economic order in contrast to President Trump's America First stance. Why has the world moved toward protectionism, and what is its impact on businesses and consumers? And how damaging is this phenomenon to our prosperity? This column considers what free trade has meant, and the impact of its demise.
This topic is particularly important to people involved in computing in an increasingly digital world. The history of free trade centers around non-digital goods and services, given the relatively late arrival of digital and digitally traded goods and services. That history helps explain the issue and draw implications for the digital world.
History of International Trade
Trading has a very long history underpinning ancient civilizations that thrived in Egypt, Greece, and Rome. Later, merchants in Venice and elsewhere traded by sea, but also along the Silk Road connecting China to the Middle East and the West. It was not until the 18th century, however, that the economists Adam Smith and David Ricardo articulated the modern notion of freedom of commerce and freedom of the seas. By then, the Dutch and the British, among other sea powers, cultivated colonies, and fueled a fierce debate between mercantilists and free traders, a debate that lasted well into the late 19th century. Mercantilists believed strong nation-states had to be self-sufficient with secure local resources, trade surplus, and the accumulation of precious metals, particularly gold and silver in the form of bullion. Consequently, they regarded international trade as a zero-sum game.
Against this historical backdrop, the free trade system held together by multiple sovereign nation-states, as we know it today, is a 20th-century creation. The Great Depression in the 1930s led to protectionist moves by major industrial nations. But thereafter, the General Agreement on Tariffs and Trade (GATT) since 1948 and the World Trade Organization (WTO), which superseded GATT in 1995, facilitated significant reductions in quotas and tariffs. Consequently, international trade in merchandise surged to 17 trillion USD in 2017. Moreover, much of this volume is accounted for by trade in intermediate goods. This is a manifestation of the rise of global supply chains in a variety of assembly-based manufacturing sectors including clothing, footwear, and electronics.4 In electronics, for example, components that are assembled into mobile phones zap across national borders more frequently than completely assembled mobile phones themselves. In the golden age of global supply chains, we have taken dispersed production locations for granted.
Free trade improves productive efficiency and increases consumer choice. The economic theory of comparative advantage also provides an indisputable logic behind why two nations that trade are both better off than if they do not trade. Nevertheless, free trade remains controversial because gains from trade are not evenly distributed within countries. Liberalizing international trade necessarily produces losers among workers in sectors facing import competition as they face job losses and declining wages. The resulting greater inequality begets a sense of injustice, and has led to a populist backlash in many countries. We need robust institutions to deal with redistributive consequences of free trade, and not all nation-states are up to carrying out that task.3
The Current Phase of Protectionism
Many commentators draw parallels between the post-2008 situation that we are currently experiencing and the 1930s. Just like in 1929, the global economy suffered a great financial crisis in 2008. Just like in the 1930s, the U.S. has imposed tariffs on imports in 2018. But so far, U.S. protectionism under President Trump has been unilateral, with only China retaliating. So unlike in the 1930s, no major industrial nation other than China has retaliated. Optimism is not warranted, however. Other countries have resorted to trade-distorting policies such as subsidies and local content requirements well before President Trump came onto the scene. In fact, the G20 nations—including China and the U.S.—first met in 2008 to forswear protectionism, but have been steadily increasing their policy interventions to tilt the commercial playing field in favor of domestic interests.2
Why has the world moved toward protectionism, and what is its impact on businesses and consumers?
The U.S. trade policy has been quite explicit about protecting U.S. jobs. In the 1980s, U.S. administrations focused on protecting jobs in the automobile and electronics sectors facing competition from Japan. In the 2010s, creating manufacturing jobs, of concern under the Obama administration, took a protectionist turn under Trump, starting with tariffs on steel and aluminum to protect steel and aluminum jobs. On the other side of the Atlantic, Britain's decision to exit the European Union—so-called Brexit—creates uncertainty. While Britain may be doing its best to keep its free trade flag flying, doing so at the same time as exiting a free trade zone undermines credibility.
From the perspective of developing countries, exporting raw materials and manufactured goods are as important as ever for their prosperity. In a neo-liberal world, the 19th-century German economist Frederich List's memorable phrase 'kicking away the ladder' resonated with many observers. In the past, rich industrialized nations got richer by using high tariffs before lowering them. How can we insist that poorer nations attempt to industrialize without such protective ladders to climb up?1 In the 2010s, however, no nation is kicking away the ladder. Rather, import substitution and industrial policies—once seen to be the preserve of developing economies—are applied in different shapes and forms around the world. Moreover, developing nations continue to face significant barriers to trade in sectors other than manufacturing, notably exporting agricultural produce to developed nations. Thus, advocates of free trade have always tempered their demand by accommodating the need to secure national sovereignty and national interest.
The Digital Dimensions of Protectionism
The preceding analysis may give the impression the pendulum swinging between free trade and protectionism is all about geopolitics and conflict between nations. But that is only partially correct. Technology—particularly digital technology—has played a great part in enhancing international trade. The digital dimension is highly relevant to people who work in the computing world. In some cases our attention to this may be restricted to what might be called "pure" digital services or products. But often it involves services or products that depend on digital technology in their creation, delivery, or use. In fact, the rapid incorporation of the digital into many services and products could be of greater significance than anything "pure."
As noted here, GATT and WTO facilitated the unprecedented growth in international trade in the second half of the 20th century. The key enabling technology for making free trade thrive was initially container shipping and intermodal transport, lowering the cost of physical transportation. Later, computing technology ushered in an era of call centers, offshore software development, and business service delivery from remote locations such as India. The technologies at the forefront—Computer Aided Design (CAD), Computer Aided Manufacturing (CAM), and the Internet—facilitated the dispersion of productive locations to design, manufacture, and provide after-sales service of complex products such as aircraft.
The power of new technologies to continue to promote geographically dispersed production networks is here to stay.
The power of new technologies to continue to promote geographically dispersed production networks is here to stay. But interestingly, new technologies may just as well be put to use to facilitate proximate design and production. When speed-to-market and reacting to covnsumer feedback in real time are important, locating design and production facilities close to final markets makes sense. There are signs of this happening. For example, the sportswear maker Under Armour has designers and manufacturers located under one roof in Baltimore, MD, USA. Adidas has one Speedfactory using robots in Ansbach, Germany, and another similar factory in Atlanta, GA, USA; and Nike's New Manufacturing partnership with Flextronics located in U.S. states California and Tennessee appears to be more and more about design and innovation, and less about low cost. And of course, these proximate locations create onshore jobs, which happens to be compatible with the climate of neo-nationalism and protectionism.
It is the nature of the technology in 3D printing, robots, flexible manufacturing systems, and AI, that makes it possible to design and produce close to end users. First, economies of scale are less important, enabling extreme customization possible to suit consumer demand. Second, automation and machine learning, incorporating elements of AI, diminish the advantage of locations with low labor costs. And third, as noted previously, the technology facilitates the geopolitical climate of neo-nationalism and protectionism. The digital technology might be neutral to the necessity of distant or proximate production and trading, but the nature of trade can nevertheless be a significant matter.
Future of Free Trade
What does the analysis presented in this column lead us to think about the future of free trade? Given the potential of digital technology, one may remain optimistic. This optimism does not rest on digital technology's capacity to override the shortcomings of politics; it comes from the potential to use digital technology to facilitate shifts in politics and consumer preferences.
Significant segments of the global economy should lament the end of the golden era of global supply chains.
Pessimists may focus on a possible future with more protectionist retaliations by other nations, just like in the 1930s. More tariffs on semiconductor and telecom equipment, for instance, would mean rising costs of producing ICT equipment, and a decline in global supply chains in that sector. Moreover, even as more and more of the economy becomes digital and less and less about physical trading of goods, 'virtual' will remain connected to physical locations. Amazon's acquisition of Whole Foods in 2017 attests to the importance of prime urban locations as delivery nodes. Even in a pure digital sphere, governments regulate data flows across national borders due to concerns over privacy and cyber security. So, free trade in digital products and services may be the ideal, but national governments remain vigilant about where and how data is held.
Some optimists may think that in the struggle between the physical world (with geopolitics pushing governments away from openness) and the digital world (fostering greater social integration and connectivity), the digital would win out in the end. However, this rests on a somewhat false dichotomy, particularly if we focus on the producer side to meet demand. In the past, the digital technology revolution was about enabling geographically dispersed production networks. In the future, digital technology can be about enabling proximity to customers. Agility and local relevance stem from using digital technology to realize greater interaction, high customization, and resource saving.
Conclusion
Free trade as an ideal had important application to manufactured goods in the second half of the 20th century. Its incorporation into services is less clear. It may not spread beyond our current stage to other sectors, including intangibles such as services and products enabled by digital technologies. Significant segments of the global economy should lament the end of the golden era of global supply chains. The trigger for the beginning of the end may be the new enabling technologies of 3D printing, robots, and AI, as much as the geopolitics of today. Neo-nationalism and protectionism need not be the path of the future, and digital technologies may well transform the direction taken by world trade.
References
1. Chang, H-J. Kicking Away the Ladder: Development Strategy in Historical Perspective. Anthem Press, London, 2002.
2. Evenett, S.J. and Fritz, J. Brazen unilateralism: The U.S.-China tariff war in perspective. The 23rd Global Trade Alert Report. CEPR Press, London, U.K., 2018; http://www.globaltradealert.org
3. Rodrik, D. Straight Talk on Trade. Princeton University Press, Princeton, NJ, USA, and Oxford, U.K., 2018.
4. Sako, M. Driving power in global supply chains. Commun. ACM 54, 7 (July 2011), 23–25.
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